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The Globe and Mail

A rosy outlook for green bonds, but valuations will be key for investors

The green economy encompasses everything from wind power and hybrid cars to the promotion of reusable shopping bags.

Fernando Morales/The Globe and Mail

Globe editors have posted this research report with permission of TD Economics. This should not be construed as an endorsement of the report's recommendations. For more on The Globe's disclaimers please read here. The following is excerpted from the report:

Green bonds are a debt instrument issued to raise capital that is used exclusively to support projects with specific environmental benefits. They help raise funds for environmental initiatives at a time when governments are strapped for cash. The first green bond that directed the use of proceeds was issued just six years ago. As a result, it is a relatively new financial instrument and has yet to conform to a standardized format.

Institutional investors are the most natural client-base for green bonds. These investors hold 72 per cent of long-term investment in the world's $95-trillion (U.S.) bond market and have demonstrated demand for environmental investment products. However, individuals are becoming increasingly exposed to green bonds, directly through portfolio diversification and indirectly through mutual funds.

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Lack of a standardized format makes estimating the size of the green bond market difficult. Market characteristics vary based on how the instrument is defined, with current estimates placing the value of the market between $10-billion and $346-billion. However all estimates indicate that the demand for green bonds is significant and has been growing rapidly over the past six years

Green bonds are a good way to secure large amounts of capital to support many different environmental investments. However, they are not ideal for all types of projects, specifically high-risk ventures.

The outlook for green bonds is very promising, but they are still subject to the same valuation analysis as any other debt instrument. In order for green bonds to attain mainstream success, their structure, rate of return and risk profile must be similar to traditional bonds.

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